The ATO is steadily increasing the volume of rental property audits in the ‘post-covid’ era which includes adding more resources to their rental property audit team.
Whilst they do not publicize the reason for targeting particular rental arrangements, it is obvious that negative gearing is a major factor. Generally, the ATO will send you a letter advising that they are ‘reviewing’ your rental property expenses and request some preliminary information, typically the lease agreement, support for bank account interest, depreciation and repairs and maintenance costs claimed and a broad explanation of the rental arrangement. Depending on your responses, the ATO will then either cease the ‘review’ or undertake further investigation.
You can support all expense deductions claimed with written evidence (for example, invoices, receipts, bank statements etc.). The key areas of rental property arrangements that may not be treated correctly are as follows:
- Charging a lower than commercial rental amount (e.g., ‘cheap’ rent to family members).
- Failure to apportion expenses where the property has been used for private purposes.
- Claiming interest deductions for ‘multi-purpose’ or refinanced borrowings where there is a private component to the borrowing.
- Claiming immediate income tax deductions for expenses as repairs when they are more appropriately classified as depreciable improvements to the property or complete replacements of depreciating assets.
- Excessive depreciation claims on the building.
While legitimate rental arrangements offer tax benefits, be aware that ATO scrutiny can still apply. Review your property arrangements, including:
- That you have a documented lease agreement setting out the usual terms and conditions, and that lease charges are commercial and arm’s-length in nature.
- Where you have used a property for private purposes or have the right to occupy the property at certain times of the year and, even if you don’t use it, whether expense claims have been apportioned.
- That borrowings used as a basis for claiming interest deductions were 100% used to purchase the property and there is no private component.
- You have general support for all rental property deductions claimed and can produce these if requested by the ATO.
This article was first published in the Summer 2023/24 issue of HLB Mann Judd Perth’s Client Alert.